Should you use a mortgage refinance to pay off student loans?

The coronavirus pandemic has put an economic strain on many American homeowners, particularly those with student loans. Though the Coronavirus Aid, Relief, and Economic Security (CARES) Act helped temporarily—at least for those with federal student loans—those protections are almost up, and many borrowers are looking for ways to manage their payments and stay afloat.

If you’re one of them, refinancing your mortgage loan might be on your mind. With a cash-out refinance, you can take advantage of the market’s record-low mortgage rates, while paying off your student loans (or any other debt or bill) at the same time.

But is it a good idea? And what would it mean for your finances in the long run? According to experts, there’s a lot to think about here.

Paying off your student loans with a refinance

A mortgage refinance can certainly be used to pay off your student loans. To do it, you’d need a cash-out refinance, which means taking out a new mortgage loan that’s higher than your current loan’s balance. Those funds are then used to pay off the old loan, and you keep the difference in cash.

Using that cash, you could pay your student loans off or settle any other debts you might be dealing with. It’s technically a way of “rolling” your student loans and other debts into your mortgage loan and paying them off over time.

Here’s how Lauren Anastasio, a certified financial planner at SoFi, explains it: “Rolling your student loan debt into your mortgage can be a great solution for many borrowers. By using a mortgage to pay off your student loans, you’re able to lock-in a very low rate for as long as 30 years, which reduces the monthly obligation of the student loan and can improve your monthly cash flow.”

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Potential pitfalls of refinancing to pay off student loans

Though a mortgage refinance can be used to pay off student loans, it might not always be the best choice. For one, you’ll still owe the money — just to a different lender. Depending on what types of student loans you have, you might lose valuable benefits, too (things like income-based repayment plans, which are only available on federal student loans).

You will also have less equity in the home. That means less profit when it comes time to sell. If home values fall in your area, it might even put you underwater on your loan—meaning you owe more than the home is worth.

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The biggest downside, though, is that you put your home at risk. Student loans don’t require collateral, so if you hit hard times and can’t make your payments, your credit will suffer—but you won’t lose an asset. On a mortgage, your home is the collateral. If you’re unable to make those payments, you could lose your house. As Evi Kokalari-Angelakis, CEO at Golden Key Realty, puts it, “Failing to pay the student loan will destroy your credit, but you will still have a roof over your head.”

How to do it right

If you are considering taking the risk and refinancing to pay off your student loans, experts say there are a few steps you should take before diving in.

• Step 1: Make sure you have enough equity
• Step 2: Pay attention to the term
• Step 3: Know what types of loans you have
• Step 4: Understand the costs — and the break-even point

Step 1: Make sure you have enough equity

“You'd need to know the value of your home to determine how much equity is in it,” said Leslie Tayne, founder of debt relief law firm the Tayne Law Group. “Equity is the amount owed versus the current value if you sold it on the market. Based on that information, determine if there is enough equity to safely take the loan out to pay off all of the student loans.”

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Step 2: Pay attention to the term

The length of your new mortgage loan will impact your long-term costs, so make sure you take this into account when considering your options. For example, refinancing into a 30-year mortgage loan may mean a lower monthly payment and interest rate now, but when you calculate the amount of interest paid over 30 years, it actually comes out to much more than you’d pay on your student loans as-is.

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Step 3: Know what types of loans you have

Be wary of refinancing federal student loans. “While the interest rates can be lowered by refinancing, borrowers lose the federal student loan benefits they currently have, which can include income-driven repayment plans, loan deferment, loan forbearance and public service loan forgiveness,” Tayne said.

Step 4: Understand the costs — and the break-even point

A refinance doesn’t come for free. Add up all the closing costs and fees you’ll pay to refinance, and make sure you’ll be in the home long enough to recoup those.

“Depending on the difference in rate and the closing costs for your property, the total cost can be recuperated anywhere from within a few months to up to a few years,” Anastasio said. “It typically only makes sense if you’re going to keep the property for at least a few years, but to get an exact estimate, ask a lender for a break-even analysis so you’ll know exactly how many months into your new mortgage it will take to break even and start saving money.”

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Shop around before refinancing